Better times ahead for NMDC

Slow volume growth, pricing pressure, delay in capex, and low earning visibility in the current year are among key reasons for the recent underperformance of NMDC's stock. These issues were also visible in NMDC's performance for the September 2012 quarter, following which analysts have lowered their expectations. The recent news of the government planning to sell 10 per cent stake in the company for about Rs 7,500 crore, expected in early December, has also added to some pressure on the stock.

On the flip side, valuations have turned attractive and, more importantly, analysts are seeing a recovery in NMDC's volumes starting FY14. The company's leadership in iron ore mining, led by integrated operations, low cost of production and high return on equity (RoE) of 30 per cent only weigh in its favour. Hence, analysts believe investors with two to three years' perspective could consider the stock.

"We have reduced our estimates and target price on the stock, but remain structurally positive on the company as we see volume growth in the coming years," says Abhisar Jain, who is tracking the company at Centrum Broking.

BETTER PROSPECTS IN FY14

In Rs crore

FY12

FY13E

FY14E

Sales

11,262

11,276

13,340

OPM (%)

79.3

74.4

73.9

Net profit

7,318

7,196

8,303

EPS (Rs)

18.5

18.2

20.9

PE (x)

9.0

9.2

8.0

E: EstimatesSource: Motilal Oswal Securities

Muted outlook for FY13... On the business front, both pricing and volume will be critical issues. Recently, the company had cut the iron ore prices twice by about 14-15 per cent and shifted to monthly pricing rather than quarterly pricing mechanism to closely track the international pricing trend. This comes on the back of delays in volume ramp up, leading to pressure on the revenue growth. Consequently, analysts lowered their realisation and earnings estimates for the company. Likewise, for 2012-13, analysts also lowered their volume estimates for NMDC by two to three million tonnes and are expecting revenue and profit growth to remain flat.

...but gains thereafter Analysts, however, believe things could improve from FY14 onwards, led by higher volumes. They expect NMDC to record volumes of 30 million tonnes in FY14, compared to 27 million tonnes in FY13. This will mean a 17-18 per cent growth in revenue and profits in FY14. Further, the company intends to increase its iron ore production capacity to 48 million tonnes by FY15 from the current installed capacity of 32 million tonnes, which will ensure sustainable growth from the core activities. Its upcoming steel capacities should only add to its earnings.

Attractive valuations In the light of the present industry scenario and issues at the company's end, NMDC's stock has fallen from Rs 250 levels in October last year to Rs 170 currently. In this scenario, analysts are expecting the follow-on public offering to be priced at around Rs 160 per share, which will be an attractive level for investors to enter the stock. At Rs 160, the price/earnings ratio will work out to 7.6 times based on the estimated earnings for FY14, and the stock will offer a dividend yield of about four per cent. Nevertheless, even at Rs 170, the risk-reward is favourable.

Additionally, as of September 2012, the company was sitting on a huge cash and bank balance of about Rs 22,500 crore on its books, which is almost one-third its market capitalisation of around Rs 67,638 crore. Adjusted for the same, the valuations look attractive.